Third Circuit Affirms Penalty for Willfully Failing to Disclose Foreign Bank Accounts

(Parker Tax Publishing June 2022)

The Third Circuit affirmed a district court's order assessing a penalty against a taxpayer for willfully failing to report his foreign bank accounts on a Report of Foreign Bank and Financial Accounts (FBAR) after finding that the taxpayer, a professor who had bank accounts in several foreign countries, had constructive knowledge of the requirement to disclose the accounts and falsely represented on his tax returns that he had no such accounts. The court also upheld the imposition of interest and a failure-to-pay penalty under the Federal Claims Collection Act. U.S. v. Collins, 2022 PTC 161 (3d Cir. 2022).

Background

Richard Collins is a dual citizen of the United States and Canada who, since the 1960s, has worked as a professor in the United States, France, and Canada. He opened bank accounts in all three countries to deposit his earnings. Collins also opened a Swiss bank account in the 1970s, though he never lived in Switzerland. Since Collins moved to the United States in 1994, he has maintained his foreign accounts and continued to receive small pension contributions into his French and Canadian accounts, which he would periodically sweep into his Swiss account. By late 2007, the balance of his Swiss account exceeded $800,000.

The Bank Secrecy Act (BSA), codified in 31 U.S.C. Section 5314, requires U.S. citizens to report interests in foreign bank and financial accounts with a value exceeding $10,000 on a Report of Foreign Bank and Financial Accounts (FBAR). Collins did not report any of his foreign bank accounts until he voluntarily amended his tax returns in 2010. At that time, the IRS accepted Collins into its Offshore Voluntary Disclosure Program (OVDP), and his accountant prepared amended returns for 2002 to 2009, which yielded modest refunds stemming from large capital losses in 2002. Upon filing the amended returns, Collins withdrew from the OVDP, prompting an audit that uncovered an unforeseen issue. Because Collins invested in foreign mutual funds, his Swiss holdings were subject to an additional tax on passive foreign investment companies (PFICs) under Code Sec. 1291, which he failed to compute in his amended returns. The IRS audit determined that Collins owed an additional $71,324 for 2005, 2006, and 2007, plus penalties.

Still worse for Collins, in June 2015 the IRS determined that since he withdrew from the OVDP, Collins was liable for civil penalties under 31 U.S.C. Section 5321(a)(5) for his "willful failure" to report foreign accounts. The maximum FBAR penalty for the willful failure to report a foreign bank account is the greater of $100,000 or 50 percent of the account balance at the time of the violation. Fortunately for Collins, the statute grants the IRS some discretion in computing the penalty. The IRS found Collins eligible for mitigation and assessed a civil penalty totaling $308,064 for 2007 and 2008. After Collins failed to pay, the government sued him in a district court to recover the penalty.

In U.S. v. Collins, 2021 PTC 40 (W.D. Pa. 2021), a district court affirmed the IRS's penalty calculation. The court found a "decades-long course of conduct, omission and scienter" by Collins in failing to disclose his foreign accounts, before also finding that the IRS's penalty determination was neither arbitrary and capricious nor an abuse of discretion. The court imposed the same FBAR penalty as the IRS, and under the Federal Claims Collection Act (the Collection Act), 31 U.S.C. Section 3717, awarded 1 percent per-year interest and a 6 percent per-year penalty for failure to pay pre- and post-judgment amounts. As of the date of the judgment, the interest and penalties totaled $98,200.

Collins appealed to the Third Circuit. He argued that the district court erred when it found that he willfully failed to report his foreign bank accounts in 2007 and 2008. According to Collins, the voluntary correction of his tax returns and application for amnesty before any investigation evidenced a simple, honest mistake rather than willfulness. He asserted that the district court should have considered that neither he nor his accountant or lawyer believed he owed any tax prior to the audit. He also pointed to his prompt payment towards the PFIC tax as evidence of good faith compliance inconsistent with willfulness. Collins also argued that the district court impermissibly applied an abuse of discretion standard in reviewing the IRS's application of the penalty. Further, Collins asserted that he should have been allowed to take discovery regarding internal IRS discussions about the computation of his FBAR penalty.

Collins also challenged the district court's addition of interest and a failure-to-pay penalty under the Federal Claims Collection Act. He contended that there is ambiguity as to whether the Collection Act applied, since the BSA offers no independent authority for the government to collect additional failure-to-pay penalties on FBAR penalties through the Collection Act. Collins argued that, under the canon of strict construction of revenue statutes, this ambiguity should be resolved in his favor. Collins further asserted that, under Bedrosian v. U.S., 2018 PTC 427 (3d Cir. 2018), the FBAR penalty is a tax, and the Collection Act explicitly provides that its interest and late-payment penalties do not apply to tax debts. In addition, Collins contended that imposing interest and failure-to-pay penalties pre-judgment was unjust because the rules pertaining to taxpayer challenges to FBAR claims were "Kafkaesque" before Bedrosian clarified jurisdictional questions in 2018. Collins pointed to pre-Bedrosian uncertainty over whether his route to judicial challenge was through full or partial payment of his penalty and whether he should have filed in a federal district court or the Court of Federal Claims.

Analysis

The Third Circuit rejected all of Collins' arguments and affirmed the district court's order assessing penalties and interest in full. Regarding the issue of willfulness, the Third Circuit noted that Schedule B (Form 1040), Interest and Ordinary Dividends, places taxpayers on notice of the FBAR obligation because it contains a check-the-box question directing taxpayers to check "Yes" if they had authority over, or interest in, a foreign account. The court found that Collins repeatedly check "No" and filed no FBAR until 2010. According to the Third Circuit, Collins filed returns indicating he had no foreign financial accounts while managing investments worth hundreds of thousands of dollars in his French, Canadian, and Swiss accounts (even after engaging an accountant in 2005). Thus, the Third Circuit concluded that Collins could not plausibly claim that he should not have known about the FBAR filing requirement. In the court's view, Collins' argument that the district court gave insufficient weight to his voluntary filing of amended returns did not establish clear error. Further, the court found that a voluntary correction does not negate willfulness. Moreover, the court reasoned that the BSA penalties apply to the failure to file an FBAR, so Collins's belief that he owed no tax was at best tangential to the issue of whether he should have known of his FBAR filing obligation. The court concluded that Collins had undisclosed foreign accounts, constructive knowledge of the requirement to disclose his accounts, and falsely represented that he had no such accounts. Therefore, the district court did not clearly err when it held that he willfully violated the FBAR filing requirement.

Next, the Third Circuit found that the district court correctly reviewed the IRS's conduct under an abuse of discretion standard because the record demonstrated the facts on which the IRS relied and the process by which it computed, mitigated, and assessed the penalty. The court found that Collins's penalty was well below the amount permitted by law and the record supported a rational connection between the IRS's findings and the penalty assessed. The court also rejected Collins's argument that he should have been allowed to take discovery of the IRS's internal discussions since the record showed that the IRS adhered to its own guidelines and Collins failed to show any prejudice regarding the scope of his discovery.

Finally, the Third Circuit held that interest and a failure-to-pay penalty were properly imposed under the Federal Claims Collection Act. The court noted that even if the FBAR provision is a revenue statute for jurisdictional purposes under Bedrosian, the FBAR penalty is not a tax within the statutory context of failure-to-pay penalties of the Collection Act. The court noted that the Collection Act provides for interest and late-payment penalties on "debts," which include any fines or penalties assessed by an agency but do not apply to debts under the Internal Revenue Code. The court explained that Collins' FBAR penalty was not a debt under the Internal Revenue Code but rather arose under 31 U.S.C. Section 5321(a)((5) for violation of the BSA. Thus, as a nontax debt, the court found that the FBAR penalty falls within the auspices of the Collection Act. Further, the court observed that under 31 U.S.C. Section 3717(g), the provisions of the Collection Act apply unless another statute explicitly fixes the interest or charges on a particular type of federal claim, in which case the more specific statute governs. The court reasoned that since the BSA does not fix interest or similar charges, or otherwise deprive Section 3717 of its effect, Section 3717 controls - and requires - the imposition of pre-judgment interest and penalties on the debts Collins owed to the United States. The court saw no unfairness to Collins regarding his pre-Bedrosian uncertainty over the proper judicial forum, which the court found did not create statutory ambiguity as to the application of the Collection Act.

The Third Circuit remarked that the disparity between Collins's putative income tax liability and his FBAR penalty was undeniably stark. However, the court said that the outcome was consistent with the BSA, which forced Collins to suffer the consequence of his willful failure to disclose his foreign accounts.

For a discussion of the penalties for failing to comply with the FBAR reporting rules, see Parker Tax ¶203,170.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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